Publication alert: EBA - Monitoring Report on the International Financial Reporting Standard (IFRS 9) implementation by EU institutions
We communicate that European Banking Authority (EBA) has published a Monitoring Report on the International Financial Reporting Standard (IFRS 9) implementation by EU institutions
1. Context
In January 2018 the international accounting standard IFRS 9 entered into force and introduced changes in credit loss provisioning by moving from an incurred loss model (under IAS 39) to an expected credit loss (ECL).
In December 2018, the EBA published the last report on the first observations on the impact and IFRS 9 by EU institutions. Furthermore, the EBA has conducted additional activities with the aim of monitoring EU institutions’ practices in the context of the COVID-19 pandemic, in order to better understand the impact of IFRS 9 on capital requirements.
In this context, the EBA has published the Monitoring Report on the IFRS 9 implementation by EU institutions which summarises the findings arising from the EBA’s investigations since the publication of its last report in December 2018. The conclusions include the effect of the COVID-19 scenario on the calculation of provisions, requiring some rapid adjustments to the models, as well as greater flexibility in the criteria used by institutions. This Report will assist supervisors evaluate the quality and adequacy of IFRS 9 ECL models, in order to contribute to a high-quality and consistent application of the IFRS 9 standard in the EU.
2. Main points
Methodology.
- Sample. The sample of institutions considered 47 institutions across 20 Member States, which cover roughly 60% of the total assets of the EU banking groups applying IFRS. Most of the banks in the sample are identified as Global Systemically Important Institutions (G-SIIs) or as Other Systemically Important Institutions (O-SIIs). This sample is consistent with the one used in the previous EBA impact assessments with some necessary adjustments, mainly due to the exclusion of UK institution.
- Sources of information. The quantitative data used for the purpose of this assessment correspond to: i) the supervisory data reported by banks to competent authorities via COREP/FINREP templates; ii) the additional quantitative data gathered through the ITS on supervisory benchmarking collected on the first time on 31 December 2020; iii) the two ad hoc benchmarking exercises launched in July 2019 and July 2020 and iii) information gathered through the EBA notifications on the application of the IFRS 9 CRR transitional arrangements, in particular the “quick fix” of CRR II introduced in June 2020 as a response to the COVID-19 pandemic.
Main findings and observations. The main observations included in the report deal with the following aspects:
- Staging assessment. Limited changes observed in banks’ significant increase in credit risk (SICR) approaches during the first half of 2020. The use of a SICR collective assessment or any other approach to timely capture factors that would not be identified at an individual level remains very limited.
- ECL models. COVID-19 pushed IFRS 9 models outside their boundaries thereby increasing the use of overlays leading to more divergence in terms of materiality of the impact in the final ECL amount.
- IFRS 9 probability of default (PD) variability and robustness. The IFRS 9 12-month PD estimates and variability generally increased during the pandemic, as a result of the incorporation of the forward looking information and their point in time nature, while the IRB PDs remained comparatively relatively stable.
- Incorporation of forward-looking information. The impact on ECL stemming from the incorporation of forward looking information increased during the pandemic and varied significantly across institutions. Some practices have been observed that deserve further scrutiny from supervisors.
- Classification and measurement. A wide array of practices was observed in the context of the IFRS 9 business model assessment. Due to this lack of consistency, this area would deserve further attention and an adequate level of guidance and review.
- Recognition and derecognition. Some discrepancies have been observed in the derecognition of financial assets and/or recognition of accrued interest. In some cases some further attention from supervisors is required, for instance, when high percentages of recoveries after write-offs are observed or when recognition and presentation of the accrued interest related to non-performing debt instruments leads to non-comparable outcomes.
- Application of IFRS 9 transitional arrangements and other prudential observations. Only one third of institutions made use of the IFRS 9 transitional arrangements under the CRR. The overall picture did not change materially, which indicates that only a few institutions decided to make use of the CRR quick-fix. The simple average CET1 impact of the application of the IFRS 9 transitional arrangements was equal to 119 bps for the EU banking sector as of December 2020.
Areas of work. The EBA will continue monitoring and promoting consistent application of IFRS 9 as well as working on the alignment with prudential requirements. In this regard, IFRS9 monitoring activities will be strengthened and, as a result, the focus and scope of IFRS9 supervisory benchmarking exercises will be broadened. In particular, the following changes are proposed:
- The new data and information that will be collected via the ITS on supervisory benchmarking will allow: i) to extend the scope of the exercise to a larger sample of institutions including the ones applying Standardised Approach (SA) for credit purposes; and ii) to conduct further analyses on additional IFRS 9 parameters.
- The EBA will continue its work on the extension of the IFRS 9 benchmarking exercise on high-default portfolios (HDPs). Firstly, this will provide more insightful information on the sources of variability in the ECL measurement since this variability is expected to be higher for the HDPs. Furthermore, this milestone implies a change in logic of the analysis, as it would involve a comparison of the model outputs not for common counterparties but instead for commonly defined portfolios.
3. Next steps
The EBA will continue to monitor and promote the consistent application of IFRS 9, as well as work on alignment with prudential requirements.
The EBA will use the findings of this report when participating in the International Accounting Standards Board's (IASB) assessment of the implementation of IFRS 9.